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Unformatted text preview: CHAPTER 12 PRICING DECISIONS AND COST MANAGEMENT 12-17 (20–30 min.) Relevant-cost approach to short-run pricing decisions. 1. Analysis of special order: Sales, 3,000 units × $80 $240,000 Variable costs: Direct materials, 3,000 units × $35 $105,000 Direct manufacturing labor, 3,000 units × $10 30,000 Variable manufacturing overhead, 3,000 units × $5 15,000 Other variable costs, 3,000 units × $5 15,000 Sales commission 6,000 Total variable costs 171,000 Contribution margin $ 69,000 Note that the variable costs, except for commissions, are affected by production volume, not sales dollars. If the special order is accepted, operating income would be $1,000,000 + $69,000 = $1,069,000. 2. Whether McMahon’s decision to quote full price is correct depends on many factors. He is incorrect if the capacity would otherwise be idle and if his objective is to increase operating income in the short run. If the offer is rejected, San Carlos, in effect, is willing to invest $69,000 in immediate gains forgone (an opportunity cost) to preserve the long-run selling-price structure. McMahon is correct if he thinks future competition or future price concessions to customers will hurt San Carlos’s operating income by more than $69,000. There is also the possibility that Abrams could become a long-term customer. In this case, is a price that covers only short-run variable costs adequate? Would Holtz be willing to accept a $6,000 sales commission (as distinguished from her regular $36,000 = 15% × $240,000) for every Abrams order of this size if Abrams becomes a long-term customer? 12-18 (15-20 min.) Short-run pricing, capacity constraints. 1. Per kilogram of hard cheese: Milk (10 liters × $1.50 per liter) $15 Direct manufacturing labor 5 Variable manufacturing overhead 3 Fixed manufacturing cost allocated 6 Total manufacturing cost $29 If Vermont Hills can get all the Holstein milk it needs, and has sufficient production capacity, then, the minimum price per kilo it should charge for the hard cheese is the variable cost per kilo = $15+5+3 = $23 per kilo. 2. If milk is in short supply, then each kilo of hard cheese displaces 2.5 kilos of soft cheese (10 liters of milk per kilo of hard cheese versus 4 liters of milk per kilo of soft cheese). Then, for the hard cheese, the minimum price Vermont should charge is the variable cost per kilo of hard cheese plus the contribution margin from 2.5 kilos of soft cheese, or, $23 + (2.5 × $8 per kilo) = $43 per kilo That is, if milk is in short supply, Vermont should not agree to produce any hard cheese unless the buyer is willing to pay at least $43 per kilo. 12-19 (25–30 min.) Value-added, nonvalue-added costs . 1. Category Examples Value-added costs a. Materials and labor for regular repairs $ 800,000 Nonvalue-added costs b. Rework costs c. Expediting costs caused by work delays g. Breakdown maintenance of equipment Total $ 75,000 60,000 55,000 $190,000 Gray area d. Materials handling costs e. Materials procurement and inspection costs...
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